October 26, 2010

Law.com: "The legal industry is falling apart" -- rise of LPO and other alternatives leading to fragmentation

In a lengthy article by Gina Passarella on law.com (from The Legal Intelligencer), more evidence is given for the proposition that with the rise of legal outsourcing and other alternative delivery models, the legal world is undergoing a sea change, in which law firms must adapt to thrive, or even survive:

The legal industry is falling apart. Not in the sense pundits meant when they gave that diagnosis in 2008 as firms were hit with the harsh reality of the recession.

Rather, the industry is moving away from a monolithic provider of legal services -- the law firm -- to a fragmented service platform where the competition isn't just a broadening array of law firms, but legal process outsourcers and other non-law firm legal service providers as well. "Law firms are really being circled by these things," consultancy Adam Smith Esq. partner Janet Stanton said.

Firms have to decide where they want to compete and how, and what fits in their business model, she said.

Not only are LPOs and other firms that are adapting their business models a source of increased competition for law firms, Edge International consultant Jordan Furlong said, but so too are clients who are increasingly bringing more work in-house.

"The overall marketplace for legal services is fracturing," Furlong said. "It's unbundling and specialists are emerging. Legal work will go to the provider best designed for that particular work in terms of personnel systems and mindset."

Moreover, the consensus from the quoted experts confirms the increasingly prevalent belief that the changes are permanent:

The pressures from LPOs are real, they said. Law departments simply have to find ways to get what they need done for less money and they are slowly starting to realize that the quality isn't lost when using an LPO, Furlong said. Both Furlong and Stanton pointed to the increased hiring by many LPOs of seasoned, high-quality attorneys to do this work.

"I think this is permanent, which is rare," Furlong said. "Trends come and go all the time. This one I think is here to stay. I think it's driven more by clients than by lawyers, but mainly just by the marketplace."

LPOs have been created in direct competition to law firms with a goal of serving law departments and others are looking to get law firms as clients. Sometimes clients hire the LPOs and other times law firms do. On the whole, it seems the bulk of LPOs are servicing law departments and are being hired directly by law departments or by law firms at the express direction of their clients.

Stanton said she is increasingly seeing a move to master contracts in which law departments use a certain provider for all of a type of service and demand that their law firms hire that provider to do that work on their matters.

Many LPOs began by offering e-discovery or document review services, and that is work that will never come back to the law firm, she said.

"How many years ago did BMW stop making car radios?" she asked. "It's gone, it's not coming back."

Firms can either find a way to provide those same services economically or they can give it up, she said. LPOs aren't going to stop there. Stanton pointed to depositions as just one other area LPOs might look to get into.

The author adds, citing the example of Pangea3, that LPO companies "are increasingly capitalizing on the void left by firms that haven't adapted their value proposition":

David Perla, co-CEO of New York and Mumbai-based outsourcing company Pangea3, said 80 percent of his business continues to come from law departments. There is interest from younger partners at law firms who realize the market is changing and from firm management who want to be educated about outsourcing when clients ask about it. But Perla said he isn't sure whether law firms will make any major institutional changes in this regard.

Pangea3 will see a few million dollars in business this year from a law firm that brought the company work the firm's client simply wouldn't pay for young associates to handle.

Far and away, Perla said, the revenue and profit engine for his company is document review for litigation and government investigations. There is always a law firm working with Pangea3 on these matters, but the company is still most often hired by a law department. That is the one area where Perla said he could see law firms become more directly involved in the hiring.

The second-biggest revenue driver is corporate services, including contract drafting, review and revision; and mergers and acquisitions due diligence, he said. There is no law firm middleman in that situation, Perla said.

Pangea3 also handles intellectual property analysis, patent preparation, prosecution and IP asset management. The client mix there is much more diverse, with law firms using Pangea3 and not viewing the company as a threat, he said. The final component to Pangea3's business is risk management and compliance. That includes everything from managing committee minute books and SEC filings to business intelligence. Typically a company's chief compliance officer would hire Pangea3 for this work, he said.

Perla said he always guesses the 80-20 split will shift, with more work coming from law firms, but it never does. Because law departments are picking it up so rapidly and law firms are relatively slower, he doesn't see that ratio shifting soon.

The author concludes with the observation that although "some are hesitant to embrace LPOs, numbers speak volumes":

Perla said his company's slowest year in terms of growth was in 2009 when it grew 60 percent. Pangea3 just finished the first half of its fiscal year and had revenue greater than the full 12 months prior. He said the company is on track to grow 250 percent this fiscal year. Pangea3 wouldn't disclose its revenue, but media reports showed the company earned more than $8 million in 2008.

Some commentators predict fatal consequences for law firms as a result of all of the above. But as I mentioned in a previous post about legal outsourcing, it is really up to law firms to decide whether they are going to thrive or not:

Does [ legal process outsourcing ] threaten the existence of U.S. law firms? No, unless you want to define American law firms as inherently dinosaur-like, and incapable of changing to avoid extinction. No, the threat is not to law firms themselves, but to an outmoded model of law practice that clients increasingly will not tolerate. We are witnessing the start of a positive, paradigm shift in the way that legal services will be delivered in the West.

Several law firms are embracing the change, and reaping rewards from it. One example is my own firm. As a result of setting up our own legal outsourcing / LPO / legal services KPO company in India, our firm is receiving more assignments and more client revenue, not less. This is coming in part from (a) existing clients who send us “elective” legal work that otherwise would never be performed, due to cost, but which is not a problem when our U.S. lawyers are paid to supervise and edit the work of attorneys in India, and (b) new clients who come to our law firm only because of our reputation for developing an alternative to the old model.

So there is no need to start making funeral arrangements for the U.S. legal industry. Forward-thinking law firms will adapt, embrace off-shore legal outsourcing, and learn how to make it serve not only the interests of their clients, but their own.

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